Implications of the Pharma Industry Investigation by US DoJ

Market watch | Published on Nov 06th 2016 | Comment(s) 0
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Last week, pharma stocks were among the worst performers on the bourses, with the NSE pharma index falling by nearly (-9.09%). The trigger was an investigation that had been launched by the US Department of Justice into generic drug companies operating in the US. According to the US department of Justice (DOJ), many of these generic drug manufacturers colluded with one another to set prices at higher levels so as to profit from the same. Check out the chart above of the performance of the NSE Pharma Index for the week ended November 04th 2016.

In India, stocks like Dr. Reddy and Sun Pharma which are likely generic drug manufacturers to be included in the DOJ list, lost heavily. In fact, Sun Pharma has been touching new lows on a regular basis after that. To understand the crux of the problem, one needs to understand the concept of generic drugs as distinct from formulations. Formulations are patented drugs which have been invented after billions of dollars spent on research & development (R&D). Hence they are provided a patent for a fixed period. Once the patent expires, these generic drug manufacturers can reverse engineer these drugs using the same active ingredients that were used in the original branded formulations. In fact, this has been the premises on which the Indian pharma industry has grown over the last 30 years into a multi-billion industry.

Why this debate in the first place?

The idea of generic drugs is to make healthcare products available to the common people at a much cheaper cost. Most formulations are priced high in countries like the US as there has been tremendous investment in R&D that has gone into these drugs. Such formulations are priced high so that the pharmaceutical company that has invested in R&D is able to recoup the cost with margins during the time the patent is still in force. Generic drugs are permitted so that post the expiry of the patent, these drugs can be made available to the common people at much lower costs. This is more relevant for a country like the US where healthcare costs are prohibitively high.

So, what is the DOJ allegation all about?

The DOJ had commenced investigation into these generic companies around 2 years ago after they had noticed a sharp increase in the cost of healthcare due to rise in prices of generic drugs. The investigation spans about 12 companies and nearly 24 specific generic drugs. The allegation is that senior executives of different generic drugs manufacturers had a tacit agreement with one another to raise prices in a synchronized manner. Some of the major global companies that are under investigation include Mylan, Teva, Actavis, Covis, Mayne Pharma, Sun Pharma and Dr. Reddy’s Laboratories. This investigation becomes significant because this is the first time such a comprehensive investigation into the pricing practices of generic drug companies has been undertaken. Till date, the focus of most investigations was largely on formulations manufacturers. This allegation becomes all the more important considering the US presidential elections. Hilary Clinton has already warned about tighter regulation and greater compliance from generic drug manufacturers.

Is there any concrete evidence of price collusion?

In any price collusion case, the investigation is done and penalties imposed based on the basis of market evidence. One such product that is under investigation is Doxycycline. This drug is manufactured by Mylan, Endo and Sun Pharma. The price of this drug was hiked by more than 50 times between 2013 and 2014. Take the case of Ursodiol, which is a generic drug to treat gallstones which is a common problem in most Western countries. The drug was priced at $0.45 a few years ago before one generic drug company, Lannet, hiked the prices of Ursodiol by 1000% to $5.10. Interestingly, there were 8 companies manufacturing Ursodiol and all these companies raised their price of Ursodiol to near the $5.10 mark. This is just one such case and the DOJ has pointed out other similar cases too. According to the DOJ, sustaining this kind of a price hike is not possible without active price collusion.

What will be the impact of this investigation?

While the actual size of the penalties are not known, conservative estimates put the total penalty to be as high as $8.5 billion. Interestingly, that is also the value of the market capitalization that was wiped out from generic drug companies on the day the news of the DOJ investigation was out. The final order is likely to be out by December. For those who are doubtful if this investigation can actually take off, they need to look at the way the auto-parts cartel in the US was penalized. The auto-parts companies ended up paying nearly $2.8 billion in penalties and a total of 46 companies and 65 persons were charged.

What does it do for Indian pharma?

For Indian pharma companies this will be one more Damocles Sword hanging over them. Firstly, there is already the worry of US FDA coming down heavily on the quality of manufacturing facilities at Indian pharma companies. Secondly, the actual outcome of the GST on pharma is unclear, although it is expected to be negative. In this background, the US DOJ investigation into price collusion will serve to dampen sentiments surrounding pharma stocks further. That could be the big challenge for Indian pharma companies!




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